Bitcoin May Have Topped

The Bitcoin Peak Might Be In

There’s a belief system among long term investors in bitcoin, known as hodlers, that bitcoin will always rally. The concept is if this rally ends in an elongated correction of 50% or more, there will eventually be another rally which brings it to new heights a few years down the line. I don’t agree with that thesis at all. Given the lack of advancements in the blockchain technology recently with Coinbase constantly shutting down when there’s volatility in bitcoin, transactions taking a long time to confirm, and transactions costing more money, I don’t think this currency can increase in value exponentially. There’s a high threshold for thinking something will increase in value exponentially which bitcoin doesn’t meet. Therefore, I think we’re near ‘peak hype.’

The longer the price stays below its $19,600 peak and the further it falls, the more likely the peak has occurred. As you can see, there were 84 crypto dedicated funds started in 2017. The biggest skeptics on Wall Street are now giving in to FOMO and buying into the crypto space. The latest investors in bitcoin are the weakest hands. They don’t know much about it and are only buying because it is going up. Once it starts going down, those weak hands will sell and the house of cards will collapse.

As I mentioned, it’s possible the peak is in. It’s currently in a rough period right now as the price has fallen 1.9% on Wednesday to $15,445. There have been many failed calls for the death of bitcoin in the past few years. To be clear, I’m calling for the death of this rampant speculation, not the entire currency. The currency will likely live on with some valuation as the investment into blockchain technology continues. The hype cycle in blockchain got bigger than other new technology advancements like 3D printing because there’s such a limited supply of the coins and the financial conditions are loose. 3D Systems stock still exists now. It has a $1 billion valuation, but it’s down about 91% from the peak in 2014. That’s a model for the expected price action in bitcoin in the next few years.

Another sign of the peak hype cycle besides the increase in crypto funds and the discussion of the currencies among people who don’t normally care about finance is the traffic the top bitcoin website, coindesk.com is receiving. As you can see, the ranking has increased with bitcoin’s price as it is now the 339th most popular website in America. In comparison, MarketWatch.com is at 380. It’s questionable how much more hype bitcoin can get. Just about everyone who would buy into it and visit coindesk.com has done so. The final bubble point about bitcoin is the first analyst to cover bitcoin is predicting a price decline in 2018. Even the believers think the price has gone up too much. He sees bitcoin trading in a giant range of between $6,500 and $22,000 in 2018 before settling at $14,035 at the end of the year. Frankly, I wouldn’t be surprised if bitcoin’s value fluctuated outside of that already large range.

Italy Is Now In Focus As Election Looms

The national Italian election in the spring of 2018 will garner a great deal of financial press coverage as the 5 Star Movement is looking strong. Next week, the ECB will start a sharp taper as the bond buying falls from €60 billion per month to €30 billion per month. The chart below shows the 12 month rolling average of investor type in Italian government bonds. As you can see, central banks gave dominated the market from 2015-2017. Next year won’t see the same dominance which can be a problem as right wing parties gain steam. 3 of the top 4 parties in Italy agree that the country should issue a parallel currency to take control of its finances from the European Union. This could lead to a spat between the EU and Italy because if the EU lets Italy do this, then it may set a precedent for other countries to do it. However, the alternative for the EU may be worse because if the EU disallows this currency, Italy may try to leave the EU. I don’t think if Italy leaves the EU, it will cause a bunch of other countries to leave right away because most countries are happy being in the EU. However, when there’s another recession, unhappy voters may want to leave. This is why the EU wants to keep Italy in the bloc. The other reason is because Italy still is large as it’s the 4th largest economy in the EU. An Italeave is a hypothetical scenario which may become reality in the next few years. The start of this unlikely scenario would be the 5 Star Movement and the Northern League having strong showings in the March 2018 election.

EBITA Margins Aren’t At Record Highs

Margins are at a record high, but as you can see from the chart below, EBITDA margins aren’t near the record high. They reached higher points in the past two cycles. The reason EBITDA margins are relatively low compared to profit margins is because non-operating costs are very low. This decline in non-operating costs is being driven by low borrowing costs and low historical effective corporate tax rates even before the recent tax cut. Because businesses have become less capital intensive, there has also been less depreciation and amortization. This analysis helps answer the question of whether profit margins can maintain their height. If interest rates rise, the answer is likely no. However, tax rates will fall because of the recent tax plan. That’s a tailwind for higher margins.

Conclusion

Bitcoin is in an exponential uptrend, but with the majority of the interest coming from those who don’t have much conviction in ownership, it can easily see a more permanent decline. If there’s a situation where casual speculators can’t get their money out of Coinbase as the price of bitcoin falls more than 50%, those speculators will get crushed. They will vow to never make the mistake of buying into crypto again, making this the last great rally in the space.

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